Supply Shock and Stagflation Macro Exam

Supply shock

Sudden change in costs or productivity shifting AS; e.g., oil shocks of the 1970s. (Chapter 22)

1973 “Year of Seven Plagues”

Major supply shock caused by crude material price jumps; triggered stagflation. (Chapter 22)

Stagflation

High inflation + high unemployment + low output; caused by negative supply shocks. (Chapter 22)

Tight money medicine

Central bank reduces money supply and raises interest rates to fight inflation; causes unemployment and lost output. (Chapter 22)

Accommodative approach

Government allows inflation to continue to protect employment; AD shifts right. (Chapter 22)

Non‑accommodative approach

Government fights inflation aggressively, allowing unemployment to rise. (Chapter 22)

Wartime boom

Rapid economic growth due to increased government spending (e.g., Vietnam War). (Chapter 22)

Overheating economy

When output exceeds potential GDP → inflation pressure. (Chapter 22)

Output gap

Difference between actual and potential GDP; positive gap = inflation, negative gap = recession. (Chapter 22)